Understanding Closed-End Funds

Digging Deeper

3: Regulatory Leverage

Regulatory leverage is leverage as defined by the Investment Company Act of 1940, Regulatory leverage is always considered to be structural – ie, an intentional part of a fund’s design and capital structure.

Regulatory leverage includes borrowings or debt issued by the fund, as well as various types of preferred shares (equity). Both of these change a fund’s
capital structure
by introducing additional capital that is senior to a fund’s common shares. This seniority means that all interest payments for debt and all declared preferred share dividends must be paid before any common share dividends are paid. If a fund is liquidated, the proceeds pay borrowings/debt principal first, then preferred shareholders, with the remainder going to common shareholders.

Regulations for debt leverage require that the value of assets (capital) raised by borrowing must be backed (covered) by the total value of portfolio assets at least 3 to 1. In other words, the fund’s maximum debt leverage is 33%.

Equity (Preferred Shares)

Regulations for equity leverage require that preferred share assets be backed by total portfolio assets at least 2 to 1, meaning maximum equity leverage is 50%.

There are risks inherent in any investment, including the possible loss of principal. There can be no assurance that fund objectives will be achieved. Closed-end funds frequently trade at a discount to their net asset value.

Past performance is no guarantee of future results.

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